Jamie Dimon Is Right

Jamie Dimon
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Jamie Dimon

Andrew Ross Sorkin is certainly correct when he writes that "the prevailing wisdom is that we need tighter regulations to avoid another crisis."

Unfortunately, the prevailing view is incorrect. The financial crisis was caused by systemically imposed rules. It was the unintended consequence of a series of regulatory actions enacted over decades.

These actions concentrated financial investment in the housing market, and built up risk on bank balance sheets — even though many of them were intended to reduce risk.

There's no point, really, in going over this every time the "prevailing wisdom" rears its ugly head. So I'll just link back to Jeffrey Friedman's excellent shadow history of the financial crisis.

If you really want to know what happened click that link. But very briefly, here's his list of the crucial regulatory contributions to the crisis:

1. HUD directives, beginning in 1994, which spurred subprime and nonprime lending and securitization by the government-sponsored enterprises (GSEs).

2. Regulations that had, starting in 1936, mandated minimum ratings for a growing number of investments.

3. The 1975 Securities and Exchange Commission decision to confer National Recognized Statistical Organization (NRSRO) status on the three extant rating firms.

4. The loose-money policies of the central banks, begun in 2001.

5. “No-recourse” mortgage laws passed by different states over the years.

6. The Basel accords, as promulgated in 1988 and enacted in the U.S., with modifications, in 1991-92.

Of course, we should add to this a few more regulatory actions:

7. The "Recourse Rule" modification to the Basel accords, which took effect in 2001 and reduced capital reserves for highly-rated asset-backed securities to just 2 percent.

8. The National Banking Act and the theory of federal pre-emption/regulatory competition that homogenized bank regulation across the entire country and encouraged the growth of Too Big to Fail national banks.

9. Capital requirements for brokerages that encouraged Wall Street to abandon partnerships in favor of becoming public companies.

10. The implied government support of the GSE's and Too Big to Fail banks, which gave them funding advantages and concealed risk.

If anything, the severity of crisis was ameliorated by the fact that the rules were loose enough to allow companies like JPMorgan Chase and Goldman Sachs to adopt initially costly heterodox views.

So when Jamie Dimon asks about the "cumulative effect" of new banking regulations, he's asking the right question. And when Ben Bernanke admits that we cannot actually measure the cumulative effect, he's saying something very important. We do not know the mischief we are making.


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